Pembroke Credit Update: Coking Coal Market Dynamics
The Pembroke 10% 7NC3 bonds offer value even though it is a relatively high-risk mining construction project which is yet to ship/export coal. Certain stages of the project have been largely de-risked, including funding and contracted coal sales. The bonds were issued at 96.5px and have improved to around 100px. We believe there is an opportunity here for coal-agnostic investors as the company continues to meet construction KPIs and coking coal market dynamics remain favourable.
Premium coking coal prices from Australia lifted notably in January 2022. Wet weather in QLD, flooding in British Colombia, Canada, and winter storms in the Appalachians in the US have weighed on seaborne coking coal supply.
While China still has an official ban on Australian coal imports, Chinese steel demand is expected to pick up after the Winter Olympics (4-20 February 2022) given the People’s Bank of China (PBoC) explicit easing bias and pro-growth stance. Strong Chinese demand for coking coal will eventually translate through to strong demand for Australian coal from the ex-China market. That’s because buyers outside China will pick up Australian coking coal if a big enough discount develops with other coking coal suppliers. Steel production growth outside China also remains a supportive factor.
This bodes well for Pembroke, which has one of the largest steelmaking coking coal reserves in the world. With the project underpinned by strong backers as well as all permits and mining leases in place, we view this mining project as largely de-risked. Bondholders also benefit from a substantial covenant package, with amortisation commencing after 33 months (average life of 5.75 years).
Given everything is tracking to plan, we would expect the company will most likely call in June 2025 at105px. A call in 2025 at105px would translate to a yield to maturity of around 11% − a very good return for 3.25 years.
Chart 1. Pembroke Yield Spread
Source: Bloomberg
Chart 2. Commodity Price Performance over January 2022
Source: The Steel Index, Platts, Metals Bulletin, LME, COMEX, ICE, Bloomberg, CBA estimates
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IAM Credit View
This is a relatively high-risk mining construction project which is yet to ship/export coal. However, certain stages of the project have been largely de-risked, including funding and contracted coal sales. Denham is fully committed to funding the remaining equity requirement. In a show of support, there are also committed project lending facilities by Northern Australia Infrastructure Facility (NAIF), the Queensland state government, as well as several commercial banks.
Strategically located in the Bowen Basin, it is a key global source of high-quality steelmaking coal (steelmaking coal is >90% of production) and operates in the first quartile of the cost curve. All permits and mining leases have been obtained to facilitate near-term construction and production.
Unlike thermal coal, there are favourable demand/supply dynamics for long-term steelmaking coal. There will be significant cash flow generation throughout the project life, driving rapid deleveraging and providing investors a healthy risk/return profile. Bondholders also benefit from a substantial covenant package.
Notably, no debt capital can be withdrawn from the bond escrow account until 95% of the equity contribution has been exhausted. Bonds will rank senior secured and pari passu with the NAIF − a commonwealth government authority.
On a debt to NPV value, this works out to around 40%, based on an NPV of USD772m and debt of USD319m (in total). All debt facilities rank pari passu with other funding sources.
Relative Value (current as at 3/2/2022)
We view this as an improving credit which would lie at the low-end on the high-yield spectrum. Compared to other credits in the B range, this looks attractive value at a 10% coupon for a senior secured bond which has an average life of 5.75 years (considering the amortisation profile). In our view, this bond is likely to trade up above par as the risk continues to decline with key KPIs around future infrastructure items get ticked-off.
Chart 3. Relative Value
Source: BondAdviser
Amortisation and Call Schedules
Note the amortisation schedule. Amortisation commences after 33 months (average life of 5.75 years).
Chart 4. Amortisation
| On the Interest Payment Date falling | Quarterly Scheduled Amortization Amount (as a percentage of the Issue Amount) |
|---|---|
| 33 months after the Issue Date | [2.39%] |
| 36 months after the Issue Date | [3.58%] |
| 39 months after the Issue Date | [3.15%] |
| 42 months after the Issue Date | [3.31%] |
| 45 months after the Issue Date | [3.43%] |
| 48 months after the Issue Date | [3.27%] |
| 51 months after the Issue Date | [3.76%] |
| 54 months after the Issue Date | [3.74%] |
| 57 months after the Issue Date | [3.58%] |
| 60 months after the Issue Date | [3.16%] |
| 63 months after the Issue Date | [3.38%] |
| 66 months after the Issue Date | [2.92%] |
| 69 months after the Issue Date | [3.49%] |
| 72 months after the Issue Date | [2.94%] |
| 75 months after the Issue Date | [2.98%] |
| 78 months after the Issue Date | [2.67%] |
| 81 months after the Issue Date | [3.40%] |
Source: Pembroke IM
Chart 5. Call Schedule
Source: Bloomberg
